Wisconsin Builder | Residential Construction

Breaking Even

Housing market maintains status quo

Boom years give way to slow growth

By Jeremy Harrell

Despite a sluggish economy, new houses are going up around the state, including these in the Middleton Hills development west of Madison. Economists and industry observers predict 2002 will turn out to be another kind year for residential contractors, although housing starts will likely not match the record-setting paces of years past.

Three months ago, residential contractors boasted that home building, with its far-reaching impact on the economy, would pull the nation out of its current slump.

And despite recent setbacks and indications that housing starts both locally and nationally have hit a plateau, the outlook remains optimistic.

According to the Wisconsin Builders Association, housing starts statewide through this year are almost dead even with similar figures from last year -- 3,760 new homes started through March 2002 vs. 3,788 by March 2001. By comparison, housing starts jumped by more than 5 percent between 2000 and 2001.

Rose Gutierrez, a research economist with the National Association of Home Builders, said the association is expecting national starts in 2002 to slightly outpace 2001. The number of new houses going up around the country surged in the first part of this year, thanks in part to good weather, but the most recent federal report shows a 5.4 percent de-cline in April, according to the NAHB.

The recent drop is nothing to get too concerned about, said David Seiders, the NAHB's chief economist.

"(The) numbers are certainly no cause for alarm," he said. "With interest rates on long-term mortgages still below 7 percent, and with the economy on a recovery path, the market for new homes is in very good shape."

In Wisconsin, NAHB economists predict a level market because the state's economy slipped into a recession and the manufacturing sector is the worst it's been in 20 years, Gutierrez said.

"It's going to stay flat in 2002," she said. "There will be a mild decline in 2003."

Christine Schwanke, the WBA's director of communications, said the outlook in Wisconsin varies by region and by home type.

After polling several members of her association, she said it's clear all markets won't be as robust as in past years, but, again, builders expect the coming months of 2002 to be what she described as "manageably busy."

"At worst, we're seeing a leveling off from last year's record pace," Schwanke said. "Our home builders and remodelers are extremely optimistic."

Construction Snapshot:

Wisconsin Housing Starts

2002 (through March) 3,760

2001 (through March)

3,788

A new economy

Builders might have created enormous expectations for the residential market because of years of steady growth, said Matt Moroney, executive director of the Metropolitan Builders Association. Now, with a different set of economic factors in play, builders are revising what they consider to be a strong market, and there's still enough work to avoid getting nostalgic about past success, he said.

"1999 is a year we'll talk about forever, but we're not off that rate by too much," Moroney said. "People are adjusting to the new economy. People are a little hesitant to move ahead with some of their projects. But it's nothing to be alarmed about. I don't think we'll see any substantial drop-offs."

As the NAHB's Seiders mentioned, residential contractors have an ace in the hole: interest rates. If the Federal Reserve Board maintains historically low rates, the housing market will attract many first- and second-time home buyers, Moroney said.

"As long as rates stay low, housing is going to perform well," he said. "Rates are a key component. All indications are that the feds will leave them untouched through 2002. I don't think there's anything out there that could put a damper on how well the market performs."

"For builders building 20-plus homes a year, they're having a hard time getting insurance at any price."

Paul Seitz
Construction Division Account Executive
R&R Insurance Services Inc.

Still, Moroney and the NAHB predict that if one part of Wisconsin feels the current economic slump more than others, it's Milwaukee. The five-county market around the state's largest city is more expensive than in other parts of the state, which could price some buyers out of the market, Moroney said.

The NAHB's Gutierrez agreed and said a small decline in the Milwaukee area is on the horizon. Other parts of the state, however, should experience modest growth, and, in the end, statewide figures should show some gains in housing starts.

"In general, it should be a wash around the state," Gutierrez said.

If the pace does fall off somewhat, Moroney said Milwaukee-area residential contractors would turn their attention to marketing, making that a business focus on par with the actual building of homes. By paying more attention to what buyers are demanding, builders could find niches within the broader home-building market, he said.

"That usually means more quality for the buyer," Moroney said. "What the marketplace is really asking for is options. More options out there is better for the consumer."

Around the rest of the state, several market sectors appear poised for expansion in the remainder of 2002, Schwanke said.

Condominium construction is on the rise because many first-time buyers are finding lot prices to be prohibitively high in some areas, she said.

In addition, she said the WBA expects second homes, vacation homes and "move-up" homes, all catering to older buyers looking to expand their real-estate portfolio, to provide an economic kick in the coming months.

Beyond building

Aside from predictions about how the housing market will fare, builders have a second economic factor to contend with. Premium rates for liability insurance have been on the rise for the last three years, increasing by 10 percent to 15 percent per year, said Don Miller, a representative with Waukesha-based Diversified Insurance Services, which specializes in insurance for residential contractors.

Claims on liability insurance policies have skyrocketed, and insurers that once operated in the market are getting out because the returns on their investments have been nonexistent, he said.

"The markets that will write them are becoming fewer and fewer," Miller said. "Obviously, companies get out of it because they lose money. Players who will write liability insurance can charge more."

Two of the biggest insurers in the Milwaukee area aren't renewing their liability insurance policies this year, said Paul Seitz, a construction division account executive with R&R Insurance Services Inc., Waukesha. He wouldn't name which companies are pulling out of the market, but he said the effect would be profound, particularly for residential contractors.

"For builders building 20-plus homes a year, they're having a hard time getting insurance at any price," Seitz said.

Liability premiums have risen because there's been a run on what Miller called "defective-workmanship" claims. Those claims arise not when, say, a house falls down, but if a home owner perceives even the smallest defect in a new home, he said.

"If a corner in a room isn't at a precise 90 degree angle, the first thing they do is call their attorney," Miller said.

"At worst, we're seeing a leveling off from last year's record pace. Our home builders and remodelers are extremely optimistic."

Christine Schwanke
Director of Communications
Wisconsin Builders Association

Mold is also rearing its head in the residential market, making up a large percentage of defective-workmanship claims, he said. One of the nation's largest carriers, Farmers Insurance Group, estimates that mold claims nationwide in 2001 outpaced claims in 2000 by fivefold, with total claims escalating to $85 billion.

Mold claims are an emerging area of litigation, and even if a lawsuit turns out to be frivolous, builders will still have to carry the burden of going to court and hiring lawyers, Seitz said.

"You're right in the chain of litigation," he said.

Because of the rising mold problems, insurance companies are increasingly excluding mold damage from basic liability insurance policies, Miller said.

"A lot of companies are saying, 'Hey, we're out of here,'" he said.

As a consequence, builders must buy warranties for their work, and some insurance carriers offer "contractor-pollution policies" to handle mold claims. But the additional insurance policies don't come cheap, Miller said.

"It's a $10,000 minimum premium with a $10,000 deductible for $1 million in coverage," he said.

Gutierrez said insurance prices, whether for liability coverage or health care, are on the rise around the country. But the effect has so far been negligible, and it shouldn't cause such a steep increase that builders will be forced to price buyers out of the market, she said.

"Insurance costs are going up for almost any sector," Gutierrez said. "There's no evidence yet that it has affected pricing. It hasn't become a factor."

Nonetheless, as these costs continue to rise, the smart builders won't absorb the increasing insurance premiums at the risk of draining the bottom line, Moroney said.

"If they're not passed on to the consumer, the builder won't be in business," he said.